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CA Foundation · Business Economics · Theory of Production and Cost

Moving downward along a convex isoquant, the marginal rate of technical substitution (MRTS) of labour for capital diminishes. This is because:

MRTS diminishes because inputs are imperfect substitutes. As a firm uses more labour and less capital, each additional unit of labour can replace a smaller amount of capital while holding output constant, which makes the isoquant convex to the origin.

  1. ACapital becomes cheaper than labour as more labour is hired
  2. BAs more labour replaces capital, each extra worker can replace progressively less capital while keeping output constantCorrect
  3. CThe firm is moving to a higher isoquant with greater output
  4. DTotal output falls when labour is substituted for capital

Explanation

MRTS is the amount of capital given up per additional unit of labour at constant output. As labour rises and capital falls, the two inputs are imperfect substitutes, so each additional worker replaces less capital. Option C is wrong because movement along one isoquant keeps output constant.

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